Iran Loses the Economic Battle

While negotiations on Iran’s nuclear program are at a standstill, news this week indicates that Iran is clearly losing the economic battle. As in other cases, currency problems in Iran may contribute to an unpredictable and destabilizing political outcome.

Iran’s currency fell by more than 18 percent against the dollar on Monday and another 8 percent on Tuesday, marking a new low in Iran’s continuing economic crisis. The figures are grim: a sheaf of rials worth ten thousand dollars a year ago would be worth about $3,750 Monday and $3,500 Tuesday; on Wednesday, there were protests in the bazaar.

Short of buyers, oil production has fallen dramatically. Peugeot has ended its role in Iran’s auto industry, which has seen production declines of up to 50 percent. Inflation and shortages have become daily troubles. Various basic goods reportedly have doubled or tripled in price in the last year. Chicken has become a luxury item.

Officially, inflation is at 23.5 percent; unofficially, it is at least a few percentage points higher. With manufacturing lagging and certain imports (especially gold) growing in spite of the rapid currency depreciation, Iran’s foreign-exchange troubles apparently are being “passedthrough” as inflation.

Extreme shifts are coupled with widespread political uncertainty (some of the rial’s worst days have been around nuclear negotiations) and a central bank hobbled by international sanctions. Iran may be on the verge of a bout of hyperinflation.

Hyperinflation is a deeply destabilizing phenomenon—in the most infamous example, Hitler rose from the Reichsmark-wallpapered beer halls of Weimar Germany. Iran’s case has striking parallels with a more recent crisis: a few years ago, Zimbabwe saw its economy cut in half and the demise of the Zimbabwe dollar, whose inflation had peaked at 79 billion percent per month in November 2008.

One key cause of Zimbabwe’s inflation was the hundreds of millions of dollars dictator Robert Mugabe spent backing the Kabila regime in the Democratic Republic of the Congo (DRC). The thousands of Zimbabwean troops deployed to the DRC played a vital role in the conflict but at a cost so high that the government later admitted the mission had become unsustainable.

The same kind of military overextension may now be happening in Iran. The Islamic Republic reportedly has funneled ten billion dollars into backing the Assad regime in Syria, yet the situation on the ground continues to deteriorate slowly. Supreme Leader Ali Khamenei has even had a falling out with Iran's Islamic Revolutionary Guards Corps-Qods Force head Qassim Suleimani, who was once untouchable. Tehran is now rumored to be seeking contact with the Syrian opposition, but the bleeding—physical and financial—is unlikely to stop soon.

Failed Reforms

The main cause of the Zimbabwean crisis was a badly implemented and demagogic attempt to reform the economy. Veterans of the bush war that ended minority rule in Zimbabwe long have been a key component of the Mugabe regime’s coalition; as the economy weakened, they became a source of agitation, occupying white-owned farms. The regime backed the occupiers, framed the farms as a relic of the colonial period and seized them. The farms were then redistributed, frequently to friends of the regime and veterans. Productivity plummeted, foreign capital fled and large areas of the seized land were left fallow due to the limited availability of credit. Shortages resulted, fueling inflation.

Similar problems have arisen in Iran. Iran is sorely in need of foreign investment, equipment and expertise. The sanctions regime and inflation make this harder. A major reform of the subsidy program was supposed to hinder inflation while directing state benefits more effectively toward the poor, but it has been imperfectly implemented, with many unable to access the cash transfers that would replace the subsidies and inflation continuing to accelerate. As long as the government is transferring rials directly to the population while oil revenues drop, the currency depreciates and inflation grows, the government risks a choice between cutting off the poor and compounding inflationary pressures.

Like the well-connected “farmers” of Zimbabwe, Iran has its own political elite that stands to gain from the nation’s economic chaos. The Revolutionary Guards have seen their role in the economy expand rapidly in recent years, using smuggling to make gains on the black market and buying up sanctions-shattered companies. Their ties to both the black and white markets create opportunities for other lucrative ventures, such as oil smuggling or schemes to benefit from the split exchange-rate system. Many of these activities will enrich the Revolutionary Guards and their alumni networks at the expense of ordinary Iranians.